General Equilibrium Theory - Computing General Equilibrium

Computing General Equilibrium

Until the 1970s general equilibrium analysis remained theoretical. With advances in computing power and the development of input-output tables, it became possible to model national economies, or even the world economy, and attempts were made to solve for general equilibrium prices and quantities empirically.

Applied general equilibrium (AGE) models were pioneered by Herbert Scarf in 1967, and offered a method for solving the Arrow-Debreu General Equilibrium system in a numerical fashion. This was first implemented by John Shoven and John Whalley (students of Scarf at Yale) in 1972 and 1973, and were a popular method up through the 1970s. In the 1980s however, AGE models faded from popularity due to their inability to provide a precise solution and its high cost of computation. Also, Scarf's method was proven non-computable to a precise solution by Velupillai (2006). (See AGE model article for the full references)

Computable general equilibrium (CGE) models surpassed and replaced AGE models in the mid 1980s, as the CGE model was able to provide relatively quick and large computable models for a whole economy, and was the preferred method of governments and the World Bank. CGE models are heavily used today, and while 'AGE' and 'CGE' is used inter-changeably in the literature, Scarf-type AGE models have not been constructed since the mid 1980s, and the CGE literature at current is not based on Arrow-Debreu and General Equilibrium Theory as discussed in this article. CGE models, and what is today referred to as AGE models, are based on static, simultaneously solved, macro balancing equations (from the standard Keynesian macro model), giving a precise and explicitly computable result (Mitra-Kahn 2008).